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About Deloitte Insights

Deloitte’s Insights for CFOs provides financial executives a customized resource to help them address the strategic, operational and regulatory issues they face in managing their finance organizations and careers, with top-line digests, research, perspectives and technical analyses.

As regulatory expectations for the financial services industry continue to increase, many boards are engaging more deeply in risk governance by implementing a risk appetite framework, which is a structured approach to governance, management, measurement, monitoring and control of risk. This second article of a two-part series discusses elements of an effective risk appetite framework and key steps to implementing a framework.

The increasing ubiquity of mobile technologies suggests opportunities for financial services companies to cultivate deeper customer engagement and boost brand loyalty. However, while many financial services organizations have been relatively quick to jump on the mobile bandwagon, the industry still has a long way to go in capturing the full potential of this rapidly evolving technology, according to a report from Deloitte.

Deloitte Views & Analysis

Non-U.S. companies pursuing cross-border M&A or otherwise investing in the U.S. face many decisions as they consider when, where and how to do so, as well as potential regulatory hurdles. Whether to acquire or go greenfield, how a U.S. investment might support the global growth strategy and what brand issues an investment might present are just a few questions CFOs and other C-suite executives should consider as they begin identifying potential targets for investment and possible challenges.

Tax considerations can be among the most important issues for non-U.S. companies pursuing cross-border M&A or direct investments in the U.S. Beth Mueller, a partner at Deloitte Tax LLP and U.S. Inbound Services leader, discusses ways to approach some of the critical tax considerations highlighted in the report, "Branching Out: 10 Questions for Inbound U.S. Investors," and issues CFOs should address with their tax directors when evaluating and planning an inbound investment.

As the likelihood of encountering IFRS with respect to a potential target increases, it’s important for CFOs of acquisitive companies to understand the differences between IFRS and U.S. GAAP and the potential impact on deal structuring and modeling. Differing local country or company interpretations of IFRS may result in challenges related to benchmarking and valuation multiples as well as increased disputes over purchase price adjustments and earn-out targets.

“With the macroeconomic environment pointing toward a slow and unsteady recovery, and structural employment issues and technology impacting long-term office usage, CRE players will have to focus on innovation to survive and grow,” says Mr. O’Brien, co-author of Deloitte’s 2013 Commercial Real Estate Outlook. Such innovation can take the form of seeking out new markets and investment opportunities, using new technologies and reducing costs.

The report examines 10 major issues and trends facing the U.S. CRE industry and potential ways CRE companies can favorably position themselves amid an ongoing slow recovery:

1. Macroeconomic Fundamentals

Outlook: The prospects for economic growth in the United States are expected to be weighed down by Europe’s own recession, given the 89% correlation between U.S. and eurozone economic growth over the past decade¹. Other conditions hindering growth are the deepening of the liquidity trap, labor market structural problems, lack of new business formation and deleveraging² by large private sector entities.

Bottom Line: The slow-growth recovery will likely hold back CRE’s recovery momentum. However, demand for high-quality properties is expected to remain intact, as investors continue to seek stable and less volatile returns.

2. CRE Fundamentals

Outlook: CRE fundamentals are benefiting from favorable absorption-completion dynamics, but revenue growth for CRE players is unlikely to reach pre-recession levels over the next few years.

*Forecasted data from 3Q12. Source: CBRE-EA, 2Q12

Contributing factors are record-low construction activity due to tight underwriting conditions amid weak demand for most property types, including new properties.

Bottom Line: Lack of new development activity does not bode well for long-term growth, and the slow recovery in the office, industrial and retail sectors indicates a coming era of reduced expectations and slower growth.

3. CRE Lending

Outlook: Moderate growth for CRE loan originations is expected through 2013, but prospects for a broad CRE market recovery are likely to be delayed due to tepid issuance of collateralized mortgage-backed securities (CMBS) and increased wariness around loan originations and refinancing for “non-trophy” assets in secondary and tertiary markets. The Mortgage Bankers Association expects commercial mortgage originations to increase by 6.6% year-over-year, to $244.0 billion through 2013.³

The Dodd-Frank Act and Basel III provisions on enhanced risk-retention requirements for CMBS and higher capital charges on bank CRE loans will likely lead to increased origination and securitization costs and stricter eligibility criteria—factors that may limit lending, increase debt cost and result in a financing gap in U.S. CRE markets. Moreover, slower recovery in non-prime markets provides significant challenges for the $1.8 trillion in CRE debt maturities due between 2012 and 2016, 29% of which is estimated to be “underwater.”⁴

Outlook: REITs’ access to equity and debt capital continues to favorably position them to acquire properties, while PERE investments in secondary and tertiary markets could help revive the broader CRE market. On the downside, minimal development activity and the expected slowdown in operating fundamentals may challenge sustained outperformance.

Bottom Line: REITs and PEREs may be drawn to invest in Asia, selected European and other emerging markets in search of growth and higher returns.

Bottom Line: CRE transaction activity is likely to grow at a slower pace due to continued economic uncertainty. A slowdown in conduit lending, which investors depend on to finance non-trophy assets in secondary and tertiary markets, may hinder a broad-based transaction market recovery.

6. Single-family Homes

Outlook: Some markets are beginning to show pickups in transaction activity and modest improvements in pricing. Efforts to “institutionalize” foreclosed homes for rental as a new asset class are also boosting sales volume. Any rise in interest rates may accelerate home buying in the short term as buyers try to lock-in a low rate, but banks’ stricter underwriting standards may act as an impediment.

Outlook: “The European economic slowdown continues to make real estate investors cautious and favor Class A properties across the globe,” Mr. O’Brien says. From a regional perspective, European economies present favorable investment opportunities in high-quality as well as distressed properties, while relatively high-growth emerging markets such as Brazil and Asia Pacific continue to develop, drawing interest from foreign investors looking for higher growth and returns.

Bottom Line: Foreign investor interest in the U.S. CRE market may partially offset the impact of a domestic slowdown. While new capital for investment in CRE globally dropped 9.4% year-over-year to $298 billion,⁵ 43% of new capital⁶ is likely to funnel into the U.S. Meanwhile, cash-rich U.S.CRE players in search of growth and market diversification can opportunistically invest overseas.

8. Sustainability

Outlook: By 2015, an estimated 40% to 48% of new, non-residential construction by value will embed sustainable building practices⁷. In addition, the sustainable construction portion of the largest non-residential retrofit and renovation activity will more than triple, growing to 25% to 33% of the activity by value⁸. While many CRE players adopt sustainability initiatives on an ad-hoc, project-wise basis, a study⁹ on sustainability initiatives’ effect on REITs’ performance established that an increase in portfolio “greenness” enhances return on assets, return on equity and the ratio of funds from operations to revenue.

Outlook: The use of CRE and tenant demands have changed significantly due to adoption of technologies such as cloud computing, social media, analytics and mobile applications.

Bottom Line: CRE players need to adapt to changing business conditions by leveraging new technologies as strategic tools to drive improvements across the enterprise, spur growth and maintain their competitive edge.

10. Analytics

Outlook: Many CRE players are in the initial stages of implementing analytics across key operational areas such as leasing, property management, budgeting and tenant servicing.¹⁰ In the medium-to-long term, CRE players will likely adopt predictive and prescriptive analytics in addition to descriptive analytics. Retail and multifamily CRE companies are likely to lead analytics adoption, due to their need to analyze complex consumer data.

Bottom Line: The level of analytics implemented will likely be a key differentiator in assessing tenant mix and retention strategies across sub-sectors, as well as in driving operational improvements and enhanced decision-making.